No. 193

Why negatively geared rental property is as safe as houses

Want to ensure those tedious people never invite you again? Why, stone the crows, the answer is obvious – during dinner suggest negative gearing for property investment is a bad idea. (You can also advocate inheritance tax on the family home, but that will get you thrown out of Sydney dinner parties on the spot).

Among people who believe there is a clause in the Constitution that guarantees Aussie battlers a right to make money via tax capital gains acquired without effort, negatively geared property is an article of faith, “the benefit of negative gearing investment has allowed many ordinary working class Australians to invest in property and to take control of their financial destiny.”[i]

But among those who believe the state should provide, negatively geared property is yet another loss of government revenue that could be spent on welfare housing.[ii] Thus, tax expert Helen Hodgson argues that government should expand the National Rental Affordability Scheme, which funds investors to build and rent dwellings to low and middle-income earners at a 20 per cent discount on market rates.[iii]

There is as much ideology and self interest as economics in the negative gearing debate – which has made it too hot to handle for any politician since Paul Keating abolished it in 1985. It was reinstated two years later on the grounds that the investment was treated differently from other asset classes and the introduction of capital gains tax compensated for loss of revenue.[iv] Unless of course it was, as Ross Gittins so eruditely argues, because the then treasurer “came under pressure from real estate agents.”[v]

While the Henry Review was silent on the power of realtors, it certainly pointed to problems with negative gearing: “The tax advantages from borrowing to invest in a rental property, also relevant for shares, leads to investors taking on too much debt and distorts the rental property market.”[vi]

Good-oh. But as Wayne Swan demonstrated, in ignoring Henry, the last thing most treasurers want to do is upset the largest lobbies. And, short of extending capital gains tax to owner occupied housing, it is hard to imagine a way of upsetting more voters than cutting deductions on investment properties. Of the 1.76 million owners of investment properties, 67 per cent lost $7.9bn on their investments in 2010-11.[vii]

But, beyond a political expense, how bad is negative gearing for the tax system and overall economy? There are serious, very serious, thinkers on both sides of the argument. Including Saul Eslake, who argues that tax foregone, due to negative gearing on rental properties in 2010-2011, was $5bn, and probably more.

This is a pretty large subsidy from people who are working and saving to people who are borrowing and speculating (since those landlords who are making “running losses” on their property investments expect to more than make up those losses through capital gains when they eventually sell them). And it’s hard to think of any worthwhile public policy purpose, which is served by it. It certainly does nothing to increase the supply of housing … Precisely for that reason, the availability of “negative gearing” contributes to upward pressure on the prices of established dwellings, and thus diminishes housing affordability for would-be home buyers.[viii]

Eslake’s argument upset all sorts. Including Shane Godwin, from the Housing Industry Association, who made the reasonable point that negative gearing applies to all sorts of investment classes.[ix] But not so much his other argument that investors contribute to new housing stock. Leith van Onselen points out that investors generally negatively gear existing properties.[x]

It was left to Henry Ergas to address the essential issues – the impact of negative gearing on tax revenues:

 Regardless of the financing structure (for investment housing) adopted, the tax rate on that income will equal the income tax rate generally and the overall tax paid will depend solely on the net income the property generates. Abolishing negative gearing would remove that neutrality, distorting the financing of rental properties and inefficiently reducing their supply.[xi]

 Which is where the debate is likely to stay, at least until the Government’s promised white paper on tax reform due before the next election. [xii] And probably after it. The Crows suspect nothing will change given our endless real estate obsession. It wasn’t just Paul Keating who was ignored in the 1980s. His colleague, finance minister Peter Walsh, urged us to invest less in housing and more in economically productive assets – a message ignored by a generation.[xiii] When it comes to the great Australian dream of rental home ownership tax concessions are, well, as safe as houses.

stephen4@hotkey.net.au

ENDNOTES